Research Report on Integrated real estate business model in Mongolia
• The economy grew at a furious pace in the third quarter with data showing GDP growth of 20.8 percent year-on-year
• Construction sector rebounded at equally furious pace in the third quarter of roughly 80% yoy reaching 258 bln.tog
• There are growing fears of another construction bubble fuelled by the inflow of money into the economy from currently high mineral prices, similar to the previous boom in 2004-08. Housing prices are soaring, while the prices of key construction materials have also climbed sharply since last year.
• If there is a bubble and that bubble is to collapse, developers with weaker financial capabilities and limited credit would be vulnerable as apartment sales slowdown would force them to start providing hefty discounts to buyers
• At the same time, on background of mining boom, the country plans massive infrastructure and housing spending, spurring demand for roads, buildings, and infrastructure , from which cement industry is to benefit the most . Government of Mongolia has planned to invest MNT30.9 trillion (USD25.4bn) into infrastructure, mining, construction, energy and 4 other sectors from 2010 to 2015 which means that in the coming years, there is expected to be a sharp increase in demand for both concrete mortar and cement. Forecasts suggest domestic cement demand will double from 700,000 tons in 2008 to 1.7 million by 2012
• Real estate sector still does have strong fundamentals with urbanization, increasing GDP and income, influx of foreigners, high rental yield and low housing stock.
• Mongolia real estate sector is still severely underdeveloped with modern housing and amenities compared to its historical peers such Qatar and Kazakhstan
• On growing concerns of any possible rupture of the any potential real estate bubble, developers and construction companies face rising land and construction material prices (cost inflation), shortages of skilled labor and increasing infrastructure bottlenecks, limited number of domestic and foreign steel bar suppliers, lack of sufficient domestic cement production, and transportation bottlenecks for cement and other construction material shipments from China, shortage of land suitable for residential development and exponential prices for whatever is available,
lengthy and complicated land use license and building permit issuance processes, outdated and duplicated zoning and building codes , wide-spread rent-seeking by inspectors , often poor quality of execution . All in all, real estate business is not an easy business at all in Mongolia. And yes, on top of it all, short construction season due to harsh climate of Mongolia
• Current increased inflationary pressures /resulting monetary tightening as well greater concerns over the sustainability of the rising real estate prices definitely will force commercial banks to slow down lending to developers, as in 2009, when credit crunch was a key reason for construction sector collapse
• To ensure further growth and stability of construction sector, investments in construction material manufacturing capacities as well as skilled labor training is needed.
• cement consumption in Mongolia increased more than tenfold in the past 10 years, with supply struggling to meet the increasing demand . On average, cement prices tripled in the last 5 years
• total current cement consumption in Mongolia is approximately 1.5 mn tons a year. cement demand over the next 5 years for the 100 thousand apartment project only is around 1 million tonnes pa. Cement demand is projected to reach 2.0 mn tons pa in the near future, due to the massive infrastructure projects planned by the government.
• Imports have only partially been able to offset the price rises, because Mongolia imports the bulk of its cement from China (unofficial estimate: about 90 percent), which itself struggles to meet local demand.
• Since the first quarter of 2011, these pressures resulted in sharply rising cement prices in Mongolia and a widening gap between local and import prices, as imports were not able to meet local demand and local supply is not growing fast enough
• The competition in the cement industry is still weak at the moment and very few are internationally competent. Existing industry does not produce cement at their full capacity due to number of factors such as technology and equipment, raw material price and supply, in addition to a shortage of finance options
• With the intention to control pollution and industry waste, the government policies will very likely gravitate towards the use of NSP technology
• There will be consolidation in highly fragmented cement and concrete industry in Mongolia
• By having their own cement plant, any producer would achieve a competitive advantage over all other suppliers when it comes to the pricing of the end product
• manual preparation and usage of concrete mixture is prohibited, demand for the development of concrete mixtures which meet the new standards has risen in the market
• Lee Cashell, investor turned entrepreneur – “ When I came to Mongolia, there was so much opportunity that I just decided – I am not going to just invest in it, I am going to do business out of it.”
• Main value drivers for APIP for the next 2-3 years will be real estate development and cement manufacturing
• CAC currently has the third largest cement production facility in Mongolia, based on annual capacity, and the only one to have all of its operations in Ulaanbaatar. By 2014, total production capacity will reach 1,000,000 tons pa.
• As of today, 32 of the 97 available residential units at flagship Olympic project are sold – exceeding APIP’s goal of 20 units by year-end and many more sales are pending. Given the brisk sales, the market has now pushed the price per square meter to over $3,000psm
• APIP’s consecutive successful property developments demonstrate its capability to build, market and sell premium buildings in Ulaanbataar
• APIP is looking to raise USD 30m by offering a 16.7% stake to institutional and experienced investors and already has commitments of over USD 8.5m
• “Market conditions are less than ideal for a fundraising. Nevertheless investors who understand the Mongolian story are keen to meet and dip their toe in”
• APIP has a pre-money valuation of USD 150m. The company is looking to close the private placement before the end of this year
• APIP plans to list on the Hong Kong Stock Exchange in 12 – 18 months’ time from the closing of the placement and expects to list a stake worth between USD 700m to USD 1bn, which is 20x – 25x price of earning multiple.
• APIP is forecast to report revenues greater than USD 40m EBITDA at the time of listing
• On MSE, APP will be the leading property investment firm listed on the Mongolian Stock Exchange and will have three core focuses of Construction and Sale of Property, Acquisition of High Yielding Properties and Trading of High Margin Property
SECTORAL OUTLOOK
• The economic rebound in recent quarters has been stronger than expected and the economy is showing signs of overheating. The economy is already running at capacity, driven by the booming mining sector. Although medium term prospects are bright, in the near term the country remains at risk of repeating the boom-bust cycle of the past decade. Public sector spending remains strongly pro-cyclical, supported by rising mineral and non-mineral revenues and the government is choosing to mostly spend rather than save windfall receipts.
• The implication for construction industry is to be vigilant for and ready for a collapse of a construction bubble
• Investors should pay special attention to prudence of developers to ensure healthy pace of development growth. These include capital adequacy, prudent if any financing to buyers, reserve requirements, and liquidity. At this stage in the business cycle it is especially important to proactively manage risks and pay attention to how prudent the developers are in order to prevent the buildup of future sectoral collapse problems in the construction sector (as it became painfully evident in 2009).
• Also it is important to pay attention to how are developers are ensuring that they maintain adequate buffer capital to absorb potential losses.
• The critical indicators are unsold inventory and the stock of the Non-Performing unit purchases and purchases in arrears
• Having said all that, it is would be worthwhile to reiterate that strong fundamentals is still there and real estate sector in Mongolia is severely underdeveloped
• the sector‘s future road is certainly not clear of bumps yet ripe with rewards
FRONTIER SECURITIES CONCLUSION
• As shown by examples of other countries which have experienced real estate bubbles, the sector‘s future road is certainly not clear of bumps yet ripe with rewards. Once the bubbles burst, many smaller companies will go out of business, leaving only a few, more professional and better established, determined, well capitalized, experienced developers
• Vertical integration and consolidation in the construction market where construction material manufacturing and research, architectural and engineering design, as well as construction works are executed by a single company, is a future prospect
• Value proposition of APIP is being a leading integrated real estate business group in Mongolia starting from cement plant and finishing by real estate agency that markets the new developments on top of its proven track record of successful development and ample landbank for diverse projects pipeline
• Construction sector rebounded at equally furious pace in the third quarter of roughly 80% yoy reaching 258 bln.tog
• There are growing fears of another construction bubble fuelled by the inflow of money into the economy from currently high mineral prices, similar to the previous boom in 2004-08. Housing prices are soaring, while the prices of key construction materials have also climbed sharply since last year.
• If there is a bubble and that bubble is to collapse, developers with weaker financial capabilities and limited credit would be vulnerable as apartment sales slowdown would force them to start providing hefty discounts to buyers
• At the same time, on background of mining boom, the country plans massive infrastructure and housing spending, spurring demand for roads, buildings, and infrastructure , from which cement industry is to benefit the most . Government of Mongolia has planned to invest MNT30.9 trillion (USD25.4bn) into infrastructure, mining, construction, energy and 4 other sectors from 2010 to 2015 which means that in the coming years, there is expected to be a sharp increase in demand for both concrete mortar and cement. Forecasts suggest domestic cement demand will double from 700,000 tons in 2008 to 1.7 million by 2012
• Real estate sector still does have strong fundamentals with urbanization, increasing GDP and income, influx of foreigners, high rental yield and low housing stock.
• Mongolia real estate sector is still severely underdeveloped with modern housing and amenities compared to its historical peers such Qatar and Kazakhstan
• On growing concerns of any possible rupture of the any potential real estate bubble, developers and construction companies face rising land and construction material prices (cost inflation), shortages of skilled labor and increasing infrastructure bottlenecks, limited number of domestic and foreign steel bar suppliers, lack of sufficient domestic cement production, and transportation bottlenecks for cement and other construction material shipments from China, shortage of land suitable for residential development and exponential prices for whatever is available,
lengthy and complicated land use license and building permit issuance processes, outdated and duplicated zoning and building codes , wide-spread rent-seeking by inspectors , often poor quality of execution . All in all, real estate business is not an easy business at all in Mongolia. And yes, on top of it all, short construction season due to harsh climate of Mongolia
• Current increased inflationary pressures /resulting monetary tightening as well greater concerns over the sustainability of the rising real estate prices definitely will force commercial banks to slow down lending to developers, as in 2009, when credit crunch was a key reason for construction sector collapse
• To ensure further growth and stability of construction sector, investments in construction material manufacturing capacities as well as skilled labor training is needed.
• cement consumption in Mongolia increased more than tenfold in the past 10 years, with supply struggling to meet the increasing demand . On average, cement prices tripled in the last 5 years
• total current cement consumption in Mongolia is approximately 1.5 mn tons a year. cement demand over the next 5 years for the 100 thousand apartment project only is around 1 million tonnes pa. Cement demand is projected to reach 2.0 mn tons pa in the near future, due to the massive infrastructure projects planned by the government.
• Imports have only partially been able to offset the price rises, because Mongolia imports the bulk of its cement from China (unofficial estimate: about 90 percent), which itself struggles to meet local demand.
• Since the first quarter of 2011, these pressures resulted in sharply rising cement prices in Mongolia and a widening gap between local and import prices, as imports were not able to meet local demand and local supply is not growing fast enough
• The competition in the cement industry is still weak at the moment and very few are internationally competent. Existing industry does not produce cement at their full capacity due to number of factors such as technology and equipment, raw material price and supply, in addition to a shortage of finance options
• With the intention to control pollution and industry waste, the government policies will very likely gravitate towards the use of NSP technology
• There will be consolidation in highly fragmented cement and concrete industry in Mongolia
• By having their own cement plant, any producer would achieve a competitive advantage over all other suppliers when it comes to the pricing of the end product
• manual preparation and usage of concrete mixture is prohibited, demand for the development of concrete mixtures which meet the new standards has risen in the market
• Lee Cashell, investor turned entrepreneur – “ When I came to Mongolia, there was so much opportunity that I just decided – I am not going to just invest in it, I am going to do business out of it.”
• Main value drivers for APIP for the next 2-3 years will be real estate development and cement manufacturing
• CAC currently has the third largest cement production facility in Mongolia, based on annual capacity, and the only one to have all of its operations in Ulaanbaatar. By 2014, total production capacity will reach 1,000,000 tons pa.
• As of today, 32 of the 97 available residential units at flagship Olympic project are sold – exceeding APIP’s goal of 20 units by year-end and many more sales are pending. Given the brisk sales, the market has now pushed the price per square meter to over $3,000psm
• APIP’s consecutive successful property developments demonstrate its capability to build, market and sell premium buildings in Ulaanbataar
• APIP is looking to raise USD 30m by offering a 16.7% stake to institutional and experienced investors and already has commitments of over USD 8.5m
• “Market conditions are less than ideal for a fundraising. Nevertheless investors who understand the Mongolian story are keen to meet and dip their toe in”
• APIP has a pre-money valuation of USD 150m. The company is looking to close the private placement before the end of this year
• APIP plans to list on the Hong Kong Stock Exchange in 12 – 18 months’ time from the closing of the placement and expects to list a stake worth between USD 700m to USD 1bn, which is 20x – 25x price of earning multiple.
• APIP is forecast to report revenues greater than USD 40m EBITDA at the time of listing
• On MSE, APP will be the leading property investment firm listed on the Mongolian Stock Exchange and will have three core focuses of Construction and Sale of Property, Acquisition of High Yielding Properties and Trading of High Margin Property
SECTORAL OUTLOOK
• The economic rebound in recent quarters has been stronger than expected and the economy is showing signs of overheating. The economy is already running at capacity, driven by the booming mining sector. Although medium term prospects are bright, in the near term the country remains at risk of repeating the boom-bust cycle of the past decade. Public sector spending remains strongly pro-cyclical, supported by rising mineral and non-mineral revenues and the government is choosing to mostly spend rather than save windfall receipts.
• The implication for construction industry is to be vigilant for and ready for a collapse of a construction bubble
• Investors should pay special attention to prudence of developers to ensure healthy pace of development growth. These include capital adequacy, prudent if any financing to buyers, reserve requirements, and liquidity. At this stage in the business cycle it is especially important to proactively manage risks and pay attention to how prudent the developers are in order to prevent the buildup of future sectoral collapse problems in the construction sector (as it became painfully evident in 2009).
• Also it is important to pay attention to how are developers are ensuring that they maintain adequate buffer capital to absorb potential losses.
• The critical indicators are unsold inventory and the stock of the Non-Performing unit purchases and purchases in arrears
• Having said all that, it is would be worthwhile to reiterate that strong fundamentals is still there and real estate sector in Mongolia is severely underdeveloped
• the sector‘s future road is certainly not clear of bumps yet ripe with rewards
FRONTIER SECURITIES CONCLUSION
• As shown by examples of other countries which have experienced real estate bubbles, the sector‘s future road is certainly not clear of bumps yet ripe with rewards. Once the bubbles burst, many smaller companies will go out of business, leaving only a few, more professional and better established, determined, well capitalized, experienced developers
• Vertical integration and consolidation in the construction market where construction material manufacturing and research, architectural and engineering design, as well as construction works are executed by a single company, is a future prospect
• Value proposition of APIP is being a leading integrated real estate business group in Mongolia starting from cement plant and finishing by real estate agency that markets the new developments on top of its proven track record of successful development and ample landbank for diverse projects pipeline
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